UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
☒Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended March 31, 2019
or
☐Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from to
Commission file number 001-11499
WATTS WATER TECHNOLOGIES, INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware |
|
04-2916536 |
(State or Other Jurisdiction of Incorporation or |
|
(I.R.S. Employer Identification No.) |
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|
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815 Chestnut Street, North Andover, MA |
|
01845 |
(Address of Principal Executive Offices) |
|
(Zip Code) |
(978) 688-1811
(Registrant’s Telephone Number, Including Area Code)
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report.)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☒ |
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Accelerated filer ☐ |
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|
|
Non-accelerated filer ☐ |
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Smaller reporting company ☐
Emerging growth company ☐ |
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|
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
Securities registered pursuant to Section 12(b) of the Act:
Title of each class |
Trading Symbol(s) |
Name of each exchange on which registered |
Class A common stock, par value $0.10 per share |
WTS |
New York Stock Exchange |
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class |
|
Outstanding at April 28, 2019 |
Class A Common Stock, $0.10 par value |
|
27,692,316 |
|
|
|
Class B Common Stock, $0.10 par value |
|
6,279,290 |
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
|
3 | ||
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3 | ||
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Consolidated Balance Sheets at March 31, 2019 and December 31, 2018 (unaudited) |
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3 |
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4 | |
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5 | |
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6 | |
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7 | |
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8 | |
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Management’s Discussion and Analysis of Financial Condition and Results of Operations |
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24 | |
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30 | ||
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30 | ||
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31 | ||
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31 | ||
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31 | ||
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31 | ||
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32 | ||
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34 | ||
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2
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
(Amounts in millions, except share information)
(Unaudited)
|
|
March 31, |
|
December 31, |
||
|
|
2019 |
|
2018 |
||
ASSETS |
|
|
|
|
|
|
CURRENT ASSETS: |
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
170.2 |
|
$ |
204.1 |
Trade accounts receivable, less allowance for doubtful accounts of $15.3 million at March 31, 2019 and $15.0 million at December 31, 2018 |
|
|
240.6 |
|
|
205.5 |
Inventories, net |
|
|
|
|
|
|
Raw materials |
|
|
95.2 |
|
|
87.4 |
Work in process |
|
|
17.4 |
|
|
17.3 |
Finished goods |
|
|
181.3 |
|
|
182.1 |
Total Inventories |
|
|
293.9 |
|
|
286.8 |
Prepaid expenses and other current assets |
|
|
25.2 |
|
|
24.9 |
Total Current Assets |
|
|
729.9 |
|
|
721.3 |
PROPERTY, PLANT AND EQUIPMENT |
|
|
|
|
|
|
Property, plant and equipment, at cost |
|
|
539.2 |
|
|
537.4 |
Accumulated depreciation |
|
|
(339.6) |
|
|
(335.5) |
Property, plant and equipment, net |
|
|
199.6 |
|
|
201.9 |
OTHER ASSETS: |
|
|
|
|
|
|
Goodwill |
|
|
543.0 |
|
|
544.8 |
Intangible assets, net |
|
|
161.0 |
|
|
165.2 |
Deferred income taxes |
|
|
2.2 |
|
|
1.6 |
Other, net |
|
|
47.7 |
|
|
18.9 |
TOTAL ASSETS |
|
$ |
1,683.4 |
|
$ |
1,653.7 |
LIABILITIES AND STOCKHOLDERS’ EQUITY |
|
|
|
|
|
|
CURRENT LIABILITIES: |
|
|
|
|
|
|
Accounts payable |
|
$ |
111.5 |
|
$ |
127.2 |
Accrued expenses and other liabilities |
|
|
137.1 |
|
|
130.6 |
Accrued compensation and benefits |
|
|
43.2 |
|
|
60.9 |
Current portion of long-term debt |
|
|
30.0 |
|
|
30.0 |
Total Current Liabilities |
|
|
321.8 |
|
|
348.7 |
LONG-TERM DEBT, NET OF CURRENT PORTION |
|
|
341.1 |
|
|
323.4 |
DEFERRED INCOME TAXES |
|
|
42.6 |
|
|
38.5 |
OTHER NONCURRENT LIABILITIES |
|
|
72.8 |
|
|
51.8 |
STOCKHOLDERS’ EQUITY: |
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|
|
|
|
|
Preferred Stock, $0.10 par value; 5,000,000 shares authorized; no shares issued or outstanding |
|
|
— |
|
|
— |
Class A common stock, $0.10 par value; 80,000,000 shares authorized; 1 vote per share; issued and outstanding, 27,710,297 shares at March 31, 2019 and 27,646,465 shares at December 31, 2018 |
|
|
2.8 |
|
|
2.8 |
Class B common stock, $0.10 par value; 25,000,000 shares authorized; 10 votes per share; issued and outstanding, 6,279,290 shares at March 31, 2019 and 6,329,290 shares at December 31, 2018 |
|
|
0.6 |
|
|
0.6 |
Additional paid-in capital |
|
|
576.6 |
|
|
568.3 |
Retained earnings |
|
|
452.1 |
|
|
440.7 |
Accumulated other comprehensive loss |
|
|
(127.0) |
|
|
(121.1) |
Total Stockholders’ Equity |
|
|
905.1 |
|
|
891.3 |
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY |
|
$ |
1,683.4 |
|
$ |
1,653.7 |
See accompanying notes to consolidated financial statements.
3
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in millions, except per share information)
(Unaudited)
|
|
First Quarter Ended |
||||
|
|
March 31, |
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April 1, |
||
|
|
2019 |
|
2018 |
||
Net sales |
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$ |
388.7 |
|
$ |
378.5 |
Cost of goods sold |
|
|
224.5 |
|
|
221.8 |
GROSS PROFIT |
|
|
164.2 |
|
|
156.7 |
Selling, general and administrative expenses |
|
|
116.1 |
|
|
112.8 |
Restructuring |
|
|
1.4 |
|
|
— |
OPERATING INCOME |
|
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46.7 |
|
|
43.9 |
Other (income) expense: |
|
|
|
|
|
|
Interest income |
|
|
(0.1) |
|
|
(0.4) |
Interest expense |
|
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3.6 |
|
|
4.3 |
Other expense, net |
|
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0.5 |
|
|
0.7 |
Total other expense |
|
|
4.0 |
|
|
4.6 |
INCOME BEFORE INCOME TAXES |
|
|
42.7 |
|
|
39.3 |
Provision for income taxes |
|
|
11.7 |
|
|
11.1 |
NET INCOME |
|
$ |
31.0 |
|
$ |
28.2 |
Basic EPS |
|
|
|
|
|
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NET INCOME PER SHARE |
|
$ |
0.91 |
|
$ |
0.82 |
Weighted average number of shares |
|
|
34.2 |
|
|
34.3 |
Diluted EPS |
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|
|
|
|
|
NET INCOME PER SHARE |
|
$ |
0.91 |
|
$ |
0.82 |
Weighted average number of shares |
|
|
34.2 |
|
|
34.4 |
Dividends declared per share |
|
$ |
0.21 |
|
$ |
0.19 |
See accompanying notes to consolidated financial statements.
4
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Amounts in millions)
(Unaudited)
|
|
First Quarter Ended |
||||
|
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March 31, |
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April 1, |
||
|
|
2019 |
|
2018 |
||
Net income |
|
$ |
31.0 |
|
$ |
28.2 |
Other comprehensive (loss) income, net of tax: |
|
|
|
|
|
|
Foreign currency translation adjustments |
|
|
(4.6) |
|
|
9.7 |
Cash flow hedges |
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(1.3) |
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2.8 |
Other comprehensive (loss) income |
|
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(5.9) |
|
|
12.5 |
Comprehensive income |
|
$ |
25.1 |
|
$ |
40.7 |
See accompanying notes to consolidated financial statements.
5
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(Amounts in millions)
(Unaudited)
|
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Accumulated |
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Class A |
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Class B |
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Additional |
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Other |
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Total |
|||||||||
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Common Stock |
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Common Stock |
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Paid-In |
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Retained |
|
Comprehensive |
|
Stockholders’ |
||||||||||
|
|
Shares |
|
Amount |
|
Shares |
|
Amount |
|
Capital |
|
Earnings |
|
Income (Loss) |
|
Equity |
||||||
Balance at December 31, 2018 |
|
27,646,465 |
|
$ |
2.8 |
|
6,329,290 |
|
$ |
0.6 |
|
$ |
568.3 |
|
$ |
440.7 |
|
$ |
(121.1) |
|
$ |
891.3 |
Net income |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
31.0 |
|
|
— |
|
|
31.0 |
Other comprehensive income |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
(5.9) |
|
|
(5.9) |
Comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
25.1 |
Shares of Class B common stock converted to Class A common stock |
|
50,000 |
|
|
— |
|
(50,000) |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
Shares of Class A common stock issued upon the exercise of stock options |
|
9,881 |
|
|
— |
|
— |
|
|
— |
|
|
0.6 |
|
|
— |
|
|
— |
|
|
0.6 |
Stock-based compensation |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
4.6 |
|
|
— |
|
|
— |
|
|
4.6 |
Stock repurchase |
|
(74,409) |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
(5.6) |
|
|
— |
|
|
(5.6) |
Net change in restricted and performance stock units |
|
78,360 |
|
|
— |
|
— |
|
|
— |
|
|
3.1 |
|
|
(6.7) |
|
|
— |
|
|
(3.6) |
Common stock dividends |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
(7.3) |
|
|
— |
|
|
(7.3) |
Balance at March 31, 2019 |
|
27,710,297 |
|
$ |
2.8 |
|
6,279,290 |
|
$ |
0.6 |
|
$ |
576.6 |
|
$ |
452.1 |
|
$ |
(127.0) |
|
$ |
905.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
Class A |
|
Class B |
|
Additional |
|
|
|
|
Other |
|
Total |
|||||||||
|
|
Common Stock |
|
Common Stock |
|
Paid-In |
|
Retained |
|
Comprehensive |
|
Stockholders’ |
||||||||||
|
|
Shares |
|
Amount |
|
Shares |
|
Amount |
|
Capital |
|
Earnings |
|
Income (Loss) |
|
Equity |
||||||
Balance at December 31, 2017 |
|
27,724,192 |
|
$ |
2.8 |
|
6,379,290 |
|
$ |
0.6 |
|
$ |
551.8 |
|
$ |
372.9 |
|
$ |
(99.1) |
|
$ |
829.0 |
Reporting Comprehensive Income change in accounting principle (ASU 2018-02) |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
(0.7) |
|
|
— |
|
|
(0.7) |
Net income |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
28.2 |
|
|
— |
|
|
28.2 |
Other comprehensive income |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
12.5 |
|
|
12.5 |
Comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
40.7 |
Shares of Class B common stock converted to Class A common stock |
|
50,000 |
|
|
— |
|
(50,000) |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
Shares of Class A common stock issued upon the exercise of stock options |
|
4,880 |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
|
|
— |
Stock-based compensation |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
2.7 |
|
|
— |
|
|
— |
|
|
2.7 |
Stock repurchase |
|
(80,055) |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
(6.2) |
|
|
— |
|
|
(6.2) |
Issuance of net shares of restricted Class A common stock |
|
91,968 |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
(1.9) |
|
|
— |
|
|
(1.9) |
Net change in restricted and performance stock units |
|
61,511 |
|
|
— |
|
— |
|
|
— |
|
|
0.9 |
|
|
(2.0) |
|
|
— |
|
|
(1.1) |
Common stock dividends |
|
— |
|
|
— |
|
— |
|
|
— |
|
|
— |
|
|
(6.7) |
|
|
— |
|
|
(6.7) |
Balance at April 1, 2018 |
|
27,852,496 |
|
$ |
2.8 |
|
6,329,290 |
|
$ |
0.6 |
|
$ |
555.4 |
|
$ |
383.6 |
|
$ |
(86.6) |
|
|
855.8 |
6
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in millions)
(Unaudited)
|
|
First Quarter Ended |
||||
|
|
March 31, |
|
April 1, |
||
|
|
2019 |
|
2018 |
||
OPERATING ACTIVITIES |
|
|
|
|
|
|
Net income |
|
$ |
31.0 |
|
$ |
28.2 |
Adjustments to reconcile net income to net cash used in operating activities: |
|
|
|
|
|
|
Depreciation |
|
|
7.5 |
|
|
7.1 |
Amortization of intangibles |
|
|
3.9 |
|
|
5.6 |
Loss on disposal and impairment of property, plant and equipment and other |
|
|
0.5 |
|
|
— |
Stock-based compensation |
|
|
4.6 |
|
|
2.7 |
Deferred income tax |
|
|
4.5 |
|
|
(4.4) |
Changes in operating assets and liabilities, net of effects from business acquisitions and divestures: |
|
|
|
|
|
|
Accounts receivable |
|
|
(36.3) |
|
|
(13.9) |
Inventories |
|
|
(7.8) |
|
|
(19.7) |
Prepaid expenses and other assets |
|
|
0.2 |
|
|
(1.6) |
Accounts payable, accrued expenses and other liabilities |
|
|
(32.3) |
|
|
(30.1) |
Net cash used in operating activities |
|
|
(24.2) |
|
|
(26.1) |
INVESTING ACTIVITIES |
|
|
|
|
|
|
Additions to property, plant and equipment |
|
|
(6.9) |
|
|
(7.3) |
Business acquisitions, net of cash acquired and other |
|
|
— |
|
|
(1.5) |
Net cash used in investing activities |
|
|
(6.9) |
|
|
(8.8) |
FINANCING ACTIVITIES |
|
|
|
|
|
|
Proceeds from long-term borrowings |
|
|
30.0 |
|
|
20.0 |
Payments of long-term debt |
|
|
(12.5) |
|
|
(70.6) |
Payment of finance leases and other |
|
|
(7.2) |
|
|
(0.4) |
Proceeds from share transactions under employee stock plans |
|
|
0.6 |
|
|
— |
Payments to repurchase common stock |
|
|
(5.6) |
|
|
(6.2) |
Dividends |
|
|
(7.3) |
|
|
(6.7) |
Net cash used in financing activities |
|
|
(2.0) |
|
|
(63.9) |
Effect of exchange rate changes on cash and cash equivalents |
|
|
(0.8) |
|
|
3.3 |
DECREASE IN CASH AND CASH EQUIVALENTS |
|
|
(33.9) |
|
|
(95.5) |
Cash and cash equivalents at beginning of year |
|
|
204.1 |
|
|
280.2 |
CASH AND CASH EQUIVALENTS AT END OF PERIOD |
|
$ |
170.2 |
|
$ |
184.7 |
NON CASH INVESTING AND FINANCING ACTIVITIES |
|
|
|
|
|
|
Acquisition of businesses: |
|
|
|
|
|
|
Fair value of assets acquired |
|
$ |
— |
|
$ |
0.7 |
Cash paid, net of cash acquired |
|
|
— |
|
|
1.3 |
Liabilities assumed |
|
$ |
— |
|
$ |
(0.6) |
Issuance of stock under management stock purchase plan |
|
$ |
1.2 |
|
$ |
1.1 |
CASH PAID FOR: |
|
|
|
|
|
|
Interest |
|
$ |
2.6 |
|
$ |
4.0 |
Income taxes |
|
$ |
2.9 |
|
$ |
7.0 |
See accompanying notes to consolidated financial statements.
7
WATTS WATER TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included in the Watts Water Technologies, Inc. (the Company) Consolidated Balance Sheet as of March 31, 2019, the Consolidated Statements of Operations for the first quarters ended March 31, 2019 and April 1, 2018, the Consolidated Statements of Comprehensive Income for the first quarters ended March 31, 2019 and April 1, 2018, the Consolidated Statements of Stockholders’ Equity for the first quarters ended March 31, 2019 and April 1, 2018, and the Consolidated Statements of Cash Flows for the first quarters ended March 31, 2019 and April 1, 2018.
The consolidated balance sheet at December 31, 2018 has been derived from the audited consolidated financial statements at that date. The accounting policies followed by the Company are described in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018. The financial statements included in this report should be read in conjunction with the consolidated financial statements and notes included in the Annual Report on Form 10-K for the year ended December 31, 2018. Operating results for the interim periods presented are not necessarily indicative of the results to be expected for the year ending December 31, 2019.
The Company operates on a 52-week fiscal year ending on December 31. Any quarterly data contained in this Quarterly Report on Form 10-Q generally reflect the results of operations for a 13-week period.
Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
2. Accounting Policies
The significant accounting policies used in preparation of these consolidated financial statements for the three months ended March 31, 2019 are consistent with those discussed in Note 2 of the Notes to Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018, with the exception of the Company’s change in its accounting policy for Leases resulting from the adoption of ASC 842 described herein.
Leases
The Company has leases for the following classes of underlying assets: real estate, automobiles, manufacturing equipment, facility equipment, office equipment and certain service arrangements that are dependent on an identified asset. The Company determines if an arrangement qualifies as a lease at its inception. The Company, as the lessee, recognizes in the statement of financial position a liability to make lease payments and a right-of-use asset (“ROU”) representing the right to use the underlying asset for both finance and operating leases with a lease term longer than twelve months. The Company elected the short-term lease recognition exemption for all leases that qualify and does not recognize ROU assets or lease liabilities for short-term leases. The Company recognizes short-term lease payments on a straight-line basis over the lease term in the consolidated statement of operations. The Company determines the initial classification and measurement of its ROU assets and lease liabilities at the lease commencement date and thereafter if modified.
For operating leases, the lease liability is initially and subsequently measured at the present value of the unpaid lease payments at the lease commencement date. For finance leases, the lease liability is initially measured in the same manner and date as for operating leases and is subsequently measured at amortized cost using the effective interest method.
8
Measuring the lease liability requires certain estimates and judgements. These estimates and judgments include how the Company determines 1) the discount rate it uses to discount the unpaid lease payments to present value; 2) lease term; and 3) lease payments.
· |
The present value of lease payments is determined using the interest rate implicit in the lease, if that rate is readily determinable; otherwise, the Company uses its incremental borrowing rate. Generally, the Company cannot determine the interest rate implicit in the lease because it does not have access to the lessor’s estimated residual value or the amount of the lessor’s deferred initial direct costs. Therefore, the Company uses the incremental borrowing rate as the discount rate for the lease. The Company’s incremental borrowing rate for a lease is the rate of interest it would have to pay on a collateralized basis to borrow an amount equal to the lease payments under a similar term. The Company’s incremental borrowing rate is determined by using a portfolio approach by geographic region, considering many factors, such as the Company’s specific credit risk, the amount of the lease payments, collateralized nature of the lease, both borrowing term and the lease term, and geographical economic considerations. |
· |
The lease term for all of the Company’s leases includes the fixed, noncancelable term of the lease plus (a) all periods, if any, covered by options to extend the lease if the Company is reasonably certain to exercise that option (b) all periods, if any, covered by an option to terminate the lease if the Company is reasonably certain not to exercise that option (c) all periods, if any, covered by an option to extend (or not to terminate) the lease in which exercise of the option is controlled by the lessor. When determining if a renewal option is reasonably certain of being exercised, the Company considers several economic factors, including but not limited to, the significance of leasehold improvements incurred on the property, whether the asset is difficult to replace, underlying contractual obligations, or specific characteristics unique to that particular lease that would make it reasonably certain to exercise such option. |
· |
Lease payments included in the measurement of the lease liability include the following: |
o |
Fixed payments, including in-substance fixed payments, owed over the lease term (which includes termination penalties the Company would owe if the lease term assumes Company exercise of a termination option), less any lease incentives paid or payable to the Company; |
o |
Variable lease payments that depend on an index or rate initially measured using the index or rate at the commencement date; |
o |
Amounts expected to be payable under a Company-provided residual value guarantee; |
o |
The exercise price of a Company option to purchase the underlying asset if the Company is reasonably certain to exercise that option; and |
o |
Fees paid by the Company to the owners of a special purpose entity for structuring the transaction. |
The ROU asset is initially measured at cost, which comprises the initial amount of the lease liability adjusted for the lease payments made at or before the lease commencement date, plus any initial direct costs incurred less any lease incentives received.
For operating leases, the ROU asset is subsequently measured throughout the lease term at the carrying amount of the lease liability, plus initial direct costs, plus (minus) any prepaid (accrued) lease payments, less the unamortized balance of lease incentives received. Lease expense for operating leases is recognized on a straight-line basis over the reasonably assured lease term based on the total lease payments and is included in cost of goods sold or within selling, general and administrative expenses in the consolidated statements of operations, based on the primary use of the ROU asset.
For finance leases, the Company recognizes the amortization of the ROU asset on a straight-line basis from the lease commencement date to the earlier of the end of the useful life or the end of the lease term unless the lease transfers ownership of the underlying asset to the Company or the Company is reasonably certain to exercise an option to purchase the underlying asset. In those cases, the ROU asset is amortized over the useful life of the underlying asset. Amortization of the ROU asset is recognized in depreciation in the consolidated statements of operations. The interest expense related to finance leases is recognized using the effective interest method and is included within interest expense.
Variable lease payments associated with the Company’s leases are recognized in the period when the event, activity, or circumstance in the lease agreement on which those payments are assessed occurs and are included in cost of goods sold or within selling, general and administrative expenses in the consolidated statements of operations, based on the primary use of the ROU asset.
9
ROU assets for operating and finance leases are periodically reduced by impairment losses. The Company uses the long-lived assets impairment guidance in ASC Subtopic 360-10, Property, Plant, and Equipment- Overall, to determine whether an ROU asset is impaired, and if so, the amount of the impairment loss to recognize.
The Company monitors for events or changes in circumstances that require a reassessment of one of its leases. When a reassessment results in a remeasurement of a lease liability, a corresponding adjustment is made to the carrying amount of the corresponding ROU asset unless doing so would reduce the carrying amount of the ROU asset to an amount less than zero. In that case, the amount of the adjustment that would result in a negative ROU asset balance is recorded in the statement of operations.
Recently Adopted Accounting Standards
In August 2017, the FASB issued ASU 2017-12 “Derivatives and Hedging (Topic 815)-Targeted Improvements to Accounting for Hedging Activities.” ASU 2017-12 amends the hedge accounting guidance to improve the financial reporting of hedging relationships to better portray the economic results of an entity’s risk management activities in the financial statements. This guidance permits hedge accounting for risk components in hedging relationships that involve nonfinancial risk, reduces complexity in hedging for fair value hedges of interest rate risk, eliminates the requirement to separately measure and report hedging ineffectiveness, and simplifies certain hedge effectiveness assessment requirements. This standard is effective for fiscal years beginning after December 15, 2018, including interim periods within that reporting period. The Company adopted this standard in the first quarter of 2019, and it did not have a material impact on the Company’s financial statements.
In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842).” ASU 2016‑02 requires a lessee to recognize in the statement of financial position a liability to make lease payments an ROU asset representing the right to use the underlying asset for the lease term for both finance and operating leases with a term longer than twelve months. Topic 842 was subsequently amended by ASU 2018-01, “Land Easement Practical Expedient for Transition to Topic 842,” ASU 2018-10, “Codification Improvements to Topic 842, Leases,” and ASU 2018-11 “Targeted Improvements.” ASU 2016-02 is effective for financial statements issued for annual periods beginning after December 15, 2018 and all interim periods thereafter. Under ASC 842, leases are classified as finance or operating, with the classification determining the pattern and classification of expense recognition in the income statement.
A modified retrospective transition approach is required, applying the new standard to all leases existing at the date of initial application. The Company may choose to use either 1) the effective date of the standard or 2) the beginning of the earliest comparable period presented in the financial statements as the date of initial application. The Company adopted the new standard on January 1, 2019 and used the effective date of the standard as the date of the Company’s initial application. By electing this approach, the financial information and the disclosures required under the new standard will not be provided for dates and periods before January 1, 2019. The Company designed the necessary changes to its existing processes and configured all system requirements that were necessary to implement this new standard.
The new standard provides a number of optional practical expedients throughout the transition. The Company elected the “package of practical expedients,” which permits the Company to not reassess under the new standard the Company’s prior conclusions about lease identification, lease classification, and initial direct costs. The Company did not elect the use-of-hindsight or the practical expedient pertaining to land easements, the latter not being applicable to the Company. The Company also elected the practical expedient not to separate lease and non-lease components for all of the Company’s leases.
As a result of adopting ASC 842, the Company recorded operating ROU assets of $33.6 million and operating lease liabilities of $33.9 million as of January 1, 2019 on the consolidated balance sheet. The difference between the ROU assets and lease liabilities related to the impact of eliminating deferred and prepaid lease payments recognized under the previous lease accounting standard. The Company’s adoption of ASC 842 did not result in a change to the Company’s recognition of its existing finance leases as of January 1, 2019. The adoption of the new lease accounting standard did not have a material impact on either the consolidated statement of operations or the consolidated statement of cash flows. However, ASU 2016-02 has significantly affected the Company’s disclosures about noncash activities related to leases. Additionally, the Company’s lease-related disclosures have significantly increased as of and for the period ended March 31, 2019 as compared to prior years. See Note 4 to the consolidated financial statements.
Shipping and Handling
10
Shipping and handling costs included in selling, general and administrative expenses amounted to $13.9 million and $13.2 million for the first quarters of 2019 and 2018, respectively.
Research and Development
Research and development costs included in selling, general and administrative expenses amounted to $9.3 million and $8.5 million for the first quarters of 2019 and 2018, respectively.
3. Revenue Recognition
The Company is a leading supplier of products that manage and conserve the flow of fluids and energy into, through and out of buildings in the residential and commercial markets of the Americas, Europe, and Asia‑Pacific, Middle East, and Africa (“APMEA”). For over 140 years, the Company has designed and produced valve systems that safeguard and regulate water systems, energy efficient heating and hydronic systems, drainage systems and water filtration technology that helps purify and conserve water.
The Company distributes products through four primary distribution channels: wholesale, original equipment manufacturers (OEMs), specialty, and do-it-yourself (DIY). The Company operates in three geographic segments: Americas, Europe, and APMEA. Each of these segments sells similar products, which are comprised of the following principal product lines:
· |
Residential & commercial flow control products—includes products typically sold into plumbing and hot water applications such as backflow preventers, water pressure regulators, temperature and pressure relief valves, and thermostatic mixing valves. |
· |
HVAC & gas products—includes commercial high‑efficiency boilers, water heaters and heating solutions, hydronic and electric heating systems for under‑floor radiant applications, custom heat and hot water solutions, hydronic pump groups for boiler manufacturers and alternative energy control packages, and flexible stainless steel connectors for natural and liquid propane gas in commercial food service and residential applications. HVAC is an acronym for heating, ventilation and air conditioning. |
· |
Drainage & water re‑use products—includes drainage products and engineered rain water harvesting solutions for commercial, industrial, marine and residential applications. |
· |
Water quality products—includes point‑of‑use and point‑of‑entry water filtration, conditioning and scale prevention systems for both commercial and residential applications. |
The following table disaggregates revenue, which is presented as net sales in the financial statements, for each reportable segment, by distribution channel and principal product line:
|
|
For the three months ended March 31, 2019 |
||||||||||
|
|
|
|
(in millions) |
|
|
||||||
Distribution Channel |
|
Americas |
|
Europe |
|
APMEA |
|
Consolidated |
||||
Wholesale |
|
$ |
145.6 |
|
$ |
79.5 |
|
$ |
12.6 |
|
$ |
237.7 |
OEM |
|
|
20.8 |
|
|
36.0 |
|
|
0.5 |
|
|
57.3 |
Specialty |
|
|
76.1 |
|
|
— |
|
|
0.4 |
|
|
76.5 |
DIY |
|
|
16.4 |
|
|
0.8 |
|
|
— |
|
|
17.2 |
Total |
|
$ |
258.9 |
|
$ |
116.3 |
|
$ |
13.5 |
|
$ |
388.7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended March 31, 2019 |
||||||||||
|
|
|
|
(in millions) |
|
|
||||||
Principal Product Line |
|
Americas |
|
Europe |
|
APMEA |
|
Consolidated |
||||
Residential & Commercial Flow Control |
|
$ |
147.4 |
|
$ |
45.4 |
|
$ |
10.7 |
|
$ |
203.5 |
HVAC and Gas Products |
|
|
68.7 |
|
|
48.5 |
|
|
2.1 |
|
|
119.3 |
Drainage and Water Re-use Products |
|
|
18.1 |
|
|
21.9 |
|
|
0.5 |
|
|
40.5 |
Water Quality Products |
|
|
24.7 |
|
|
0.5 |
|
|
0.2 |
|
|
25.4 |
Total |
|
$ |
258.9 |
|
$ |
116.3 |
|
$ |
13.5 |
|
$ |
388.7 |
11
|
|
For the three months ended April 1, 2018 |
||||||||||
|
|
|
|
(in millions) |
|
|
||||||
Distribution Channel |
|
Americas |
|
Europe |
|
APMEA |
|
Consolidated |
||||
Wholesale |
|
$ |
136.6 |
|
$ |
82.7 |
|
$ |
13.9 |
|
$ |
233.2 |
OEM |
|
|
19.1 |
|
|
39.5 |
|
|
0.5 |
|
|
59.1 |
Specialty |
|
|
67.6 |
|
|
— |
|
|
— |
|
|
67.6 |
DIY |
|
|
17.8 |
|
|
0.8 |
|
|
— |
|
|
18.6 |
Total |
|
$ |
241.1 |
|
$ |
123.0 |
|
$ |
14.4 |
|
$ |
378.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended April 1, 2018 |
||||||||||
|
|
|
|
(in millions) |
|
|
||||||
Principal Product Line |
|
Americas |
|
Europe |
|
APMEA |
|
Consolidated |
||||
Residential & Commercial Flow Control |
|
$ |
139.9 |
|
$ |
47.2 |
|
$ |
9.5 |
|
$ |
196.6 |
HVAC and Gas Products |
|
|
62.5 |
|
|
53.9 |
|
|
4.3 |
|
|
120.7 |
Drainage and Water Re-use Products |
|
|
16.5 |
|
|
21.6 |
|
|
0.3 |
|
|
38.4 |
Water Quality Products |
|
|
22.2 |
|
|
0.3 |
|
|
0.3 |
|
|
22.8 |
Total |
|
$ |
241.1 |
|
$ |
123.0 |
|
$ |
14.4 |
|
$ |
378.5 |
The Company considers customer purchase orders, which in some cases are governed by master sales agreements, to represent the contract with a customer. The Company’s contracts with customers are generally for products only and typically do not include other performance obligations such as professional services, extended warranties, or other material rights. In situations where sales are to a distributor, the Company has concluded that its contracts are with the distributor as the Company holds a contract bearing enforceable rights and obligations only with the distributor. As part of its consideration of the contract, the Company evaluates certain factors including the customer’s ability to pay (or credit risk). For each contract, the Company considers the promise to transfer products, each of which is distinct, to be the identified performance obligations. In determining the transaction price, the Company evaluates whether the price is subject to refund or adjustment to determine the net consideration to which the Company expects to be entitled. As the Company’s standard payment terms are less than one year, the Company has elected not to assess whether a contract has a significant financing component. The Company allocates the transaction price to each distinct product based on its relative standalone selling price. The product price as specified on the purchase order is considered the standalone selling price as it is an observable input which depicts the price as if sold to a similar customer in similar circumstances. Revenue is recognized when control of the product is transferred to the customer (i.e., when the Company’s performance obligation is satisfied), which typically occurs at shipment from the Company’s manufacturing site or distribution center, or delivery to the customer’s named location. In certain circumstances, revenue from shipments to retail customers is recognized only when the product is consumed by the customer, as based on the terms of the arrangement, transfer of control is not satisfied until that point in time. In determining whether control has transferred, the Company considers if there is a present right to payment, physical possession and legal title, along with risks and rewards of ownership having transferred to the customer. In certain circumstances, the Company manufactures customized product without alternative use for its customers. However, as these arrangements do not entitle the Company a right to payment of cost plus a profit for work completed, the Company has concluded that revenue recognition at the point in time control transfers is appropriate and not over time recognition.
At times, the Company receives orders for products to be delivered over multiple dates that may extend across reporting periods. The Company invoices for each delivery upon shipment and recognizes revenues for each distinct product delivered, assuming transfer of control has occurred. As scheduled delivery dates are within one year, under the optional exemption provided by the guidance, revenues allocated to future shipments of partially completed contracts are not disclosed.
The Company generally provides an assurance warranty that its products will substantially conform to the published specification. The Company’s liability is limited to either a credit equal to the purchase price or replacement of the defective part. Returns under warranty have historically been immaterial. The Company does not consider activities related to such warranty, if any, to be a separate performance obligation. For certain of its products, the Company will separately sell extended warranty and service policies to its customers. The Company considers the sale of the extended warranty a separate performance obligation. These policies typically are for periods ranging from one to three years. Payments received are deferred and recognized over the policy period. For all periods presented, the revenue recognized and the revenue deferred under these policies is not material to the consolidated financial statements.
12
The timing of revenue recognition, billings and cash collections from the Company’s contracts with customers can vary based on the payment terms and conditions in the customer contracts. In some cases, customers will partially prepay for their goods; in other cases, after appropriate credit evaluations, payment is due in arrears. In addition, there are constraints which cause variability in the ultimate consideration to be recognized. These constraints typically include early payment discounts, volume rebates, rights of return, cooperative advertising, and market development funds. The Company includes these constraints in the estimated transaction price when there is a basis to reasonably estimate the amount of variable consideration. These estimates are based on historical experience, anticipated future performance and the Company’s best judgment at the time. When the timing of the Company’s recognition of revenue is different from the timing of payments made by the customer, the Company recognizes either a contract asset (performance precedes contractual due date) or a contract liability (customer payment precedes performance). Contracts with payment in arrears are recognized as receivables. The opening and closing balances of the Company’s contract assets and contract liabilities are as follows:
|
|
Contract |
|
Contract |
|
Contract |
|||
|
|
Assets |
|
Liabilities - Current |
|
Liabilities - Noncurrent |
|||
|
|
|
|
|
(in millions) |
|
|
|
|
Balance - January 1, 2019 |
|
$ |
1.0 |
|
$ |
11.3 |
|
$ |
2.7 |
Change in period |
|
|
(0.7) |
|
|
0.1 |
|
|
— |
Balance - March 31, 2019 |
|
$ |
0.3 |
|
$ |
11.4 |
|
$ |
2.7 |
|
|
|
|
|
|
|
|
|
|
Balance - January 1, 2018 |
|
$ |
0.6 |
|
$ |
11.3 |
|
$ |
2.1 |
Change in period |
|
|
1.1 |
|
|
0.2 |
|
|
0.3 |
Balance - April 1, 2018 |
|
$ |
1.7 |
|
$ |
11.5 |
|
$ |
2.4 |
The amount of revenue recognized during the three months ended March 31, 2019 that was included in the opening contract liability balance was $3.3 million. This revenue consists primarily of revenue recognized for shipments of product which had been prepaid as well as the amortization of extended warranty and service policy revenue. The Company did not recognize any material revenue from obligations satisfied in prior periods. The change in Contract Liabilities is not material for the three months ended March 31, 2019. There were no impairment losses related to Contract Assets for the three months ended March 31, 2019.
The Company incurs costs to obtain and fulfill a contract; however, the Company has elected to recognize all incremental costs to obtain a contract as an expense when incurred if the amortization period is one year or less. The Company has elected to treat shipping and handling activities performed after the customer has obtained control of the related goods as a fulfillment cost and the related cost is accrued for in conjunction with the recording of revenue for the goods.
4. Leases
The Company adopted ASC 842 effective January 1, 2019. The Company has a variety of categories of lease arrangements, including real estate, automobiles, manufacturing equipment, facility equipment, office equipment and certain service arrangements that are dependent on an identified asset. The Company’s real estate leases, which are comprised primarily of manufacturing facilities and warehouses, represent approximately 80% of the Company’s operating lease liabilities and generally have a lease term between 2 and 15 years. The remaining leases primarily consist of automobiles, machinery and equipment used in the manufacturing processes (e.g., forklifts and pallets), general office equipment and certain service arrangements, each with various lease terms. The Company’s automobile leases typically have terms ranging from 3 to 5 years. The Company’s remaining population of leases have terms ranging from 2 to 15 years. Certain lease arrangements may contain renewal terms ranging from 1 to 5 years. The majority of the Company’s real estate, automobile, and equipment leases are comprised of fixed lease payments plus, for many of the Company’s leases, variable payments. For the Company’s real estate leases, variable payments include those for common area maintenance, property taxes, and insurance. For automobile leases, variable payments primarily include maintenance, taxes, and insurance. For equipment leases, variable payments include maintenance and payments based on usage. The Company has elected to account for lease and non-lease components as a single component for all leases. Therefore, all fixed costs within a lease arrangement are included in the fixed lease payments for the single, combined lease component and used to measure the lease liability. Variable lease costs are recognized in the period when the event, activity, or circumstance in the lease agreement occurs.
13
Some of the Company’s lease agreements include Company options to either extend and/or early terminate the lease, the costs of which are included in the Company’s lease liability to the extent that such options are reasonably certain of being exercised. Renewal options are generally not included in the lease term for the Company’s existing leases because the Company is not reasonably certain to exercise these renewal options. The Company does not generally enter into leases involving the construction or design of the underlying asset, and nearly all of the assets the Company leases are not specialized in nature. The Company’s leases generally do not include termination options for either party to the lease or restrictive financial or other covenants. The Company’s lease agreements generally do not include residual value guarantees.
Right-of-use asset amounts reported in the consolidated balance sheet by asset category as of March 31, 2019 were as follows:
|
|
March 31, 2019 |
|
|
|
(in millions) |
|
Operating Leases (1) |
|
|
|
Real Estate |
|
$ |
24.4 |
Automobile |
|
|
3.3 |
Machinery and equipment |
|
|
3.5 |
Total operating lease ROU Asset |
|
$ |
31.2 |
|
|
|
|
Finance Leases (2) |
|
|
|
Real Estate |
|
$ |
14.5 |
Machinery and equipment |
|
|
3.7 |
Less: Accumulated depreciation |
|
|
(8.1) |
Finance Leases, net |
|
$ |
10.1 |
(1)Included on the Company’s consolidated balance sheet in other assets (other, net).
(2)Included on the Company’s consolidated balance sheet in property, plant and equipment.
The maturity of the Company’s operating and finance lease liabilities as of March 31, 2019 was as follows:
|
|
March 31, 2019 |
||||
|
|
Operating Leases |
|
Finance Leases |
||
|
|
(in millions) |
||||
2019 (excluding the three months ended March 31, 2019) |
|
$ |
10.7 |
|
$ |
1.7 |
2020 |
|
|
8.7 |
|
|
1.6 |
2021 |
|
|
4.6 |
|
|
0.5 |
2022 |
|
|
3.0 |
|
|
0.3 |
2023 |
|
|
2.3 |
|
|
— |
Thereafter |
|
|
4.4 |
|
|
— |
Total undiscounted minimum lease payments |
|
$ |
33.7 |
|
$ |
4.1 |
Less imputed interest |
|
|
2.2 |
|
|
0.3 |
Total lease liabilities |
|
$ |
31.5 |
|
$ |
3.8 |
Included in the consolidated balance sheet |
|
|
|
|
|
|
Current lease liabilities (included in other current liabilities) |
|
|
10.0 |
|
|
1.7 |
Non-Current lease liabilities (included in other non-current liabilities) |
|
|
21.5 |
|
|
2.1 |
Total lease liabilities |
|
$ |
31.5 |
|
$ |
3.8 |
The total lease cost was comprised of the following amounts:
|
|
March 31, 2019 |
|
|
|
(in millions) |
|
Operating lease cost |
|
$ |
2.9 |
Amortization of finance lease right-out-use assets: |
|
|
0.3 |
Variable lease cost |
|
|
0.8 |
Total lease cost |
|
$ |
4.0 |
14
The following information represents supplemental disclosure for the statement of cash flows related to operating and finance leases:
|
|
March 31, 2019 |
|
|
|
(in millions) |
|
Operating cash flows from operating leases |
|
$ |
3.0 |
Financing cash flows from finance leases |
|
|
0.4 |
Total cash paid for amounts included in the measurement of lease liabilities |
|
|
3.4 |
Operating lease liabilities arising from obtaining right-of-use assets |
|
|
0.3 |
The following summarizes additional information related to operating and finance leases:
|
|
March 31, 2019 |
||
Weighted-average remaining lease term - finance leases |
|
|
2.8 |
years |
Weighted-average remaining lease term - operating leases |
|
|
4.6 |
years |
Weighted-average discount rate - finance leases |
|
|
3.8 |
% |
Weighted-average discount rate - operating leases |
|
|
3.1 |
% |
5. Goodwill & Intangibles
The Company operates in three geographic segments: Americas, Europe, and APMEA. The changes in the carrying amount of goodwill by geographic segment are as follows: